Integral Diagnostics Limited (IDX) Earnings Call Transcript & Summary

Thank you for standing by, and welcome to the Integral Diagnostics FY 2023 results. [Operator Instructions] I would now like to hand the conference over to Mr. Ian Kadish, CEO. Please go ahead.

Thank you very much. My name is Ian Kadish. I'm the Chief Executive and Managing Director of Integral Diagnostics. I'm joined here this morning by Craig White, our Chief Financial Officer. It's our privilege this morning to review with you the financial results for Integral Diagnostics' financial year 2023. Integral Diagnostics is a purpose-driven company. We are defined by our 5 values to put patients first; to demonstrate medical leadership; to ensure that everyone counts, to create value and to embrace change. We served more than 1 million patients last year, the first time we had served over 1 million patients. We performed more than 2.5 million exams and we invested $45.2 million in CapEx, including new greenfield sites opened at Pimpama on the Gold Coast and at Waiata Shores in Auckland. We also continue to develop and implement technology to enhance the patient and referrer experience. We deployed 248 reporting radiologists last year, and importantly, 107 of these radiologists are currently shareholders in our business. We continued to develop IDXt, a teleradiology offering to provide services to both external as well as internal clients. We continue to develop the group-wide subspecialty reporting platform we have to capitalize on our specialist expertise, assisted by AI-enhanced screening and detection. And we ensure that everyone counts, all 2010 employees at our company. We conducted temperature checks and pulse surveys with our employees, which showed continual improvement in both response rates and engagement scores, benchmarking higher-than-industry comparators and we continue to focus on our ESG strategy. With regard to creating value both for shareholders and also for others, we delivered a net profit after tax of $17.8 million on an operating basis, a decline of 17.6% versus the prior comparable period. Similarly, operating EPS declined by 26% to $0.076 this year. We declared a fully franked FY '23 dividend of $0.06 a share. We invested $19 million in growth initiatives across the business. We completed our acquisitions of Peloton Radiology and Horizon Radiology on the 1st of July 2022. We now have 6,156 shareholders at IDX. And we look to embrace change over a period -- over the past few years and have spent where we've seen more change than we have in prior years of the company's existence. We implemented new clinical and corporate systems to better support the business to facilitate workflows and to drive shareholder value. We also diversified our referrer base in New Zealand, as we accommodated the new environment in New Zealand with a non-arm's length referrals. Looking at our financial year 2023 financial highlights. We grew revenue by 22.1%, which reflected a continued recovery in patient volumes from COVID-19 and the acquisition of the X-Ray Group, Peloton Radiology and Horizon Radiology. Our statutory net profit after tax increased by 71.5% to $25 million. Our operating NPAT declined by 17.6% to $17.8 million. We increased our operating EBITDA by 13.9% to $85.2 million. We saw a decline of 26% on our diluted earnings per share to earnings of $0.076 per share. And importantly, we increased our free cash flow by 8% to $53.1 million. We saw our net debt-to-EBITDA improved from 3.1x in the 31st of December last year to 2.9x on the 30th of June 2023. Overall, it was a challenging FY '23 result, but it reflected a materially stronger second half profit, driven by the continued recovery of patient volumes, limited pricing increases for Medicare indexation of 1.6%, which was materially below inflation and similar limited increases from our payers in New Zealand. We did take selective price increases as gaps from patients where possible or remaining market competitive. We faced cost pressures, especially higher labor costs, driven by inflation and labor market supply constraints, together with high interest earning costs. We successfully managed in the second half to contain and reduce costs where possible. Our operating EBITDA margin decreased by 140 basis points compared to PCP. Both Peloton and Horizon acquisitions experienced very similar trends to IDX's existing businesses in Queensland and New Zealand. Our statutory NPAT of $25 million after the write-back of non-operating provisions of $7.2 million. We have declared a fully franked final dividend of $0.035 a share compared to $0.03 in the same period last year, resulting in a total FY '23 fully franked dividend of $0.06 a share compared to $0.07 for the full year last year. This represents 77.9% of our FY '23 operating net profit after tax. Financial year 2023 was very much a story of 2 very different halves, materially stronger second half results demonstrated by an improvement in group EBITDA margins by 1.7% to 20.2% for the second half of financial year '23. This illustrates the operating leverage inherent in our business as patient volumes came back and we saw our operating margins also improved. In addition, we reduced our balance sheet leverage by 0.2x from 3.1x at the 31st of December to 2.9x on the 30th of June 2023. Importantly, to 2.8x, if we take the second half and annualize it on a run rate basis. We produced stronger organic revenue growth in Australia of 10.3% in the second half versus 4.2% in the first half. And we grew our average fee per exam of 6.1% in the second half versus 5.2% in the first half. We also saw stronger organic revenue growth in New Zealand of 4.7% versus 4.1% in the first half. The average fee per exam up by 0.4% in the second half versus a decline of 5.2% in the first half. Labor cost growth was 3.8% in the second half, well below revenue growth of 4.3%. The lower second half operating expenditure versus the first half, excluding labor of $1.4 million, reflects our focus on reducing operating expenditure, together with the reassessment of our make-good provisions for our leased premises. You can see the details here in the footnote. Looking at the industry results on the next page. You can see that the improvement in calendar year 2023 goes up strongly in the industry results, too. In Australia, IDX recorded solid gains in revenue market share, evidenced by 7% revenue increase. This compares to 4.8% for Medicare overall for the year, indicating solid revenue growth, revenue market share growth in the second half of the year -- over the whole year but particularly in the second half. We've declared the $0.035 dividend you'll see on the next page, up 0.5% versus the second half last year and then $0.06 for the full year down $0.01 versus the full year last year. I'm going to hand over now to Craig White to take us through the financials.

Thanks, Ian, and good morning, everybody. Thanks for joining the call. I'm just going to take you to the results for FY '23 page. As Ian mentioned, our revenues for FY '23 grew strongly at 22.1%, including both organic growth as well as the acquisitions of Peloton Radiology and Horizon Radiology and an additional 4 months contribution from the X-Ray Group. Operating EBITDA growing at 13.9% was lower, reflecting inflationary pressures in the P&L, particularly in the first half. And I'll talk to that in a little bit more detail shortly. Operating NPAT declined by 17.6%, again reflecting those inflationary pressures, but also the higher interest funding costs on debt. Again, I'll talk to that in more detail shortly. Pleasingly, free cash flow was strong. And particularly when you look at free cash flow conversion, in other words, the conversion of our operating EBITDA to cash, excluding the replacement CapEx, grew at 93% against 78.3% in the prior year. And as Ian mentioned, the leverage of the group came down to 2.9x, up from 1.6x at 30 June last year, which was just before we drew down debt to fund the acquisitions of Peloton Radiology and Horizon Radiology. But pleasingly, it's down from the 3.1x at 31 December '22 at the half year. And if you look at the second half annualized run rate, leverage is a little lower at 2.8x rather than 2.9x. Just looking at each of the lines of the P&L in a little more detail and turning to the next slide on revenue. As I mentioned, revenue is up 22.1%. That revenue growth of just under $80 million includes $5.1 million for the 4 months from July to October 2022, the X-Ray Group, following acquisition in November 2021, around $38 million for Peloton Radiology and $11.4 million for Horizon Radiology. We had both those acquisitions for the full 12 months in FY '23. Excluding the acquisitions, organic operating revenue from all sources in Australia, grew solidly at 7% for FY '23. And particularly, as Ian mentioned before, we had a much stronger second half with organic revenue growing at 10.3% against the first half growth of 4.2%. The 7% overall for the full year reflects the fact that we have gained revenue market share relative to the industry, which grew at 4.8% benefits adjusted for working days. Looking at the average fees per exam. They grew in Australia by 5% across FY '23. But again, just looking at the split between first half and second half, first half average fees per exam in Australia grew by 5.2%, and the second half grew more strongly at 6.1%, reflecting, in particular, some price increases that we took on ultrasound in Queensland from the early part of the second half of FY '23. In New Zealand, organic operating revenue grew 4.4% for FY '23. Again, a similar trend of a gradual improvement in the return of patient volumes. So the first half was 4.1%, second half 4.7%, with limited price increases applying in New Zealand in FY '23. Just turning to operating expenditure on the next slide. Overall, operating costs grew by 24% or around just under $70 million, including acquisitions. Excluding the acquisitions, our operating expenditure grew 10.2%. Just looking at some of the key drivers of that, really, the biggest driver was labor. Linking back to my previous comments around some of the inflationary pressures that we and the industry generally experienced through FY '23, really in terms of the increases in salaries and wages that we have paid are CPI-like nature through FY '23 and also reflecting some of the supply-side constraints for both radiologists, as well as some of the technical staff who support our clinical operations performed some of those scans in our clinics. Just looking at a couple of the other lines in regards to operating expenditure, you'll see that occupancy costs, excluding acquisitions grew -- sorry, declined just under 20%. We adjusted some of our make-good provisions relating to leases in FY '23 to reflect our estimate of what those provisions should stand at. And other expenses grew just under 20%, largely reflecting higher insurance premiums investment that we've made in cybersecurity to bolster our defenses in FY '23, as well as higher travel costs as COVID-19 travel restrictions were lifted and we were able to travel more freely. Turning to capital management on the next slide. You can see that our FY '23 net debt ended at $194.5 million. That was up from the position at 30 June 2022, which stood at $101.5 million. I'm just reminding you that, that balance at 30 June '22 was just before we drew down debt on the acquisitions of Peloton Radiology and Horizon Radiology on 1 July. And the increase largely reflects those acquisitions and various other operating cash flows, CapEx and movements in working capital through the year. We ended 30 June, 2023 with significant liquidity headroom under our existing group debt facilities of $152.4 million. And that excludes an additional $105 million Accordion facility that we have access to, noting that all of our facilities are in place until February 2026. Of note on that slide is the fact that our contingent consideration provisions have increased in FY '23. The decrease largely reflects the reduction in earnout A provision in regards to Imaging Queensland following the independent expert review of that earn-out earlier in the year. Turning to cash flow and cash conversion. As I mentioned before, we had strong free cash conversion -- sorry, strong free cash flow conversion of 93%, up from 78.3% in the prior year, excluding replacement CapEx. We continue to invest in growth and expenditure in FY '23 by an amount of $19.1 million. And we have a favorable movement in working capital of $13.4 million. Turning to capital expenditure on the next slide. You'll see that across the year, we invested $45.2 million, split between $26.1 million of replacement CapEx and $19.1 million of growth CapEx. You can see a list of some of the more major investments or growth capital listed on the second part of that slide. We ended the year in terms of our expenditure overall, a little higher than we had expected. That largely reflects a couple of things. One was really the delayed investment of replacement CapEx, following the lifting of some of the COVID-19 restrictions and that flowed into FY '23, and as supply chains normalized and we were able to get equipment into place. So, there's certainly some spillover from FY '22 into that $26.1 million from FY '23. And we had a couple of sites towards the end of the second half of FY '23 that we thought previously would fall into FY '24. We were able to accelerate their opening and that ended up with some of the growth capital being a little higher than originally forecasted. I'll now hand back to Ian, who will take you through the rest of the presentation. That's it.

Thank you very much, Craig. With regards to the regulatory environment in Australia, Medicare on the 1st November 2022 deregulated MRI licenses in regional and rural areas. And in this process, we gained 3 full licenses, 2 full licenses where we had non-rebatable machines and won an upgrade from a partial to a full license. For financial year 2023, Medicare announced a 3.6% increase, which applied from the 1st of July 2023 to all diagnostic imaging items, including MRI, excluding nuclear medicine items. There is a further indexation of 0.5%, which is expected to be applied from 1 November of this year 2023. The bulk billing incentive on MRI reduced to 95% of CMBS from 100% on the 1st of July 2022. But importantly, that only impacts MRIs that currently are bulk billed to Medicare. And from the 1st of July 2022, 2 new PET items were introduced for patients with prostate cancer. These are important additions for the patients and also important for the industry because the addressable market across that cancer market is a large one. In New Zealand, there was limited price indexation in New Zealand, but we're still negotiating with funders for indexation over the course of financial year '23. The regulatory authorities in New Zealand determined that non-arm's length referral practices were acceptable, and we diversified our referrer base in New Zealand accordingly. We now have a referrer base in New Zealand that more closely approximate our Australia referrer base with more GPs in New Zealand than we previously had. Historically, our New Zealand practices were very much specialist-oriented. Whereas now, even though they still have a large specialist orientation, similar to IDX's Australia business, it's not [ another key piece ] represented as well. Moving to our strategy and starting with our ESG strategy. IDX continues to implement and develop our ESG strategy aligned to our values. Our values line up well with the United Nations Sustainable Development goals, as you can see on this page, particularly the good health and well-being SPG, which applies to every one of our values. Details of our ESG activities are going to be published in further detail in our financial year '23 ESG Report, which is due to be released prior to our AGM in November. And turning to the final slide of the presentation, our strategy slide. Good medicine is still good business. The long-term industry fundamentals in Australia and New Zealand are strong and continue to underpin attractive ongoing growth opportunities. Both countries have large and growing aging populations, requiring greater health care support. And at the same time, community expectations for higher-quality diagnosis and care continues to increase, while new imaging technologies improve efficiency and aid diagnosis and early detection of disease. Radiology plays an important role in both preventative as well as curative non-invasive health care improvement. Our focus in financial year '24 will be to drive organic earnings growth, including through cost management, selective price increases and brownfield and greenfield investment opportunities. We will accelerate the use of teleradiology, digital and AI technologies to drive quality and efficiency. We will develop our environmental, social and governance strategy. We'll continue to nurture and develop our culture and leadership across our people. And we will once again consider accretive acquisitions that represent strong clinical, culture and strategic fit. Financial year '24, we expect our replacement and growth CapEx to be between $35 million and $45 million. I'll now hand over to you for questions.

[Operator Instructions] Your first question comes from David Stanton with Jefferies.

Firstly, I wonder if you could explain to us sort of that -- continue to seek sort of above-market growth in Australia. How is this sort of occurring, please, and what should we think going forward?

Thank you, David. Our above-market growth in Australia is driven by our investments in technologies where there is good growth. Technologies like PET/CTs that we saw within introduction of PSMA for prostate scans in the 1st of July last year, real needle mover being introduced in terms of diagnostic modalities on offer and paid for by Medicare. We also invest in MRI and invest in subspecialty training for our radiologist workforce. That's very much oriented towards specialist referrer base, which has been growing more than the GP referrer base in recent times. So, our orientation towards these high-value modalities valuable to the patients and also more expensive, but the work that in terms of the tests that previously were acquired and are no longer needed. When you undergo something like a PET/CT or an MRI, and you get non-invasively a result that determines your prognosis a lot better and more efficiently and with less side effects. So, our orientation towards this specialist end of the market and towards these higher-end modalities has helped us grow market share quite nicely. And then we've also once again focused on growing the individual clinics in high-growth areas that we serve.

Understood. And 2 for Craig, and then I'll get back in the queue. We saw second half total expenses about $173 million. Is that sort of exit run rate plus a couple of percent reasonable to think about in terms of total expenses for F '24? Or will it be a material step up or step down, please?

Yes. Thanks, David. Look, I think, certainly, I think you should look at our second half operating expenditure as a guide to the future. However, the inflationary pressures haven't gone away, as you well know. I think they are moderating, is a sense we have, but there's certainly still inflationary pressures there, both on the clinical and the corporate side. I think on the supply side for some of our clinical staff, there has been some easing, but we're still yet sort of see that pressure come off completely. So, look, I can't put a percentage on it for you. I don't want to give guidance on what the actual operating expenditure in the first half of FY '24 is going to be, but that gives you a sense of how to think about it.

Understood. And final one from me. Again, it's about the finance costs, please. So finance costs in F '24, about $10 million. What we should be thinking sort of in terms of your base rates or your interest expense for F '24, please?

Thanks. So first of all, I'm not sure where you get the $10 million from. But maybe just -- let me just talk, if you like, and unpack the finance cost expense in the P&L. So for those of you who have gone into the annual report, this is Note 6 of the annual report. So, we've got a total finance cost of $18.4 million. The 2 main components in there are the interest expense on the debt, which is around $13 million. Then there is the AASB 16 right-of-use asset, which is around $5.5 million for FY '23. So, that explains the bulk of the movement. There are a couple other small things in [ immaterial ] context of it. I think if we look forward to FY '24 and again, sort of think about the interest on the gross debt and the AASB 16 adjustments, I think, first of all, in terms of the AASB 16 adjustment, I think it will be similar to FY '23. And you would probably expect that given that we don't have any further acquisitions. We have a full year in there for Peloton Radiology, Horizon Radiology. I don't expect a lot of movements in the AASB 16 adjustment in FY '24. Certainly, in terms of the interest on the bank debt, there are a few things to think about there. If you look across FY '23, the effect of interest rate across the full year was up [ 0.4%, 0.5% ], and that's disclosed in the annual report. And obviously, what we've seen through FY '23 is an increasing level of base rates. We also -- because our leverage was over 3x at 31 December '22, we went up 0.2% on the margin grid with the banks. So it's important to sort of unpack that. And if you look at the exit rate coming out of FY '23 across the group, probably looking at something around 6.5%. If you look at the blended cost between Australia and New Zealand, obviously, the blended cost in New Zealand is higher. As we think about FY '24, we announced that looking at crystal ball and obviously, having to guess what the regulatory authorities around the world and the central banks are going to do, but directionally, we have certainly contemplated probably a couple of additional 0.25% interest rate rises in Australia and New Zealand in FY '24. So, that will lift that interest expense if that comes to pass in FY '24 relative to that sort of 6.5-odd percent, I mentioned. And important to realize that interest rates in New Zealand are higher. So if you sort of look at it, I would expect in Australia, those assumptions about the rate rises come to pass, combined with the fact that we will, because our leverage is now under 3x, we will come back down the margin group by 0.2%. I think we'll be looking at interest expense in Australia of around 7-ish if those assumptions come to pass, i.e., we have 2 further rate rises. And in New Zealand, we're probably looking at around -- New Zealand is about 1.7%, 1.8% higher than Australia sort of [ 8% ]. Under 8.8% I would be assuming New Zealand. So, there's some assumptions in there who knows what's going to happen on the rate rises, but that's directionally how we're thinking about it. Hopefully, that helps.

It does. Sorry, I misspoke. I meant second half F '23 at 9.8%, but I'll get back in the queue.

Your next question comes from David Low with JPMorgan.

Just if we could start with New Zealand and the ruling on non-arm's length referring, just wondering what the implications are and what the expectations are now with New Zealand margin?

So, we think that the New Zealand margin, David, would have stabilized into the second half of last financial year. We've not seen an ongoing impact from the non-arm's length referrals in the second half. Most of the impact would have worked its way through the system in calendar year 2022.

Okay. So the second half becomes a reasonable guide at the very least then?

Yes. That's fair.

Okay. We've had questions on operating expenses. But I particularly noticed that labor as a percentage of revenues, stripping out the acquisition, looked like it was more of a headwind in the second half than it was in the first half. I'm looking at 3.6% reported versus 2.7%. Just wondering if that's accurate and what the drivers are? And frankly, what we should expect going forward and the labor cost line, please?

Well, maybe I'll take that one. I think, first of all, I don't think that's correct, David, pressures were higher in the second half. If you actually look at it, we had revenue growth of 4.3% and labor growing at 3.8% in the second half. So labor actually grew slower than revenue in that second half. I think, I would say that really, if you look across FY '23 on the labor line, first half, second half was quite similar. The thing that the only material variation on that labor line would relate to radiologist costs where incentives are structured as a percentage of revenue. So as revenue goes up, obviously, those doctors have an incentive tied to that revenue and conversely, if revenue comes down, the incentive goes down. So those would be the comments I'd make around the shape of those second half numbers.

That's helpful. Just one last one from me then. So, you spilt out the indexation and it's obviously a whole lot better this year than last. Do you think that's consistent with where your operating cost inflation is likely to fall out?

I think that -- no, it's -- again, probably goes back to some of the comments I was making before. It's a little hard to see or to predict exactly where we're going to be. But I think you have to assume some CPI inflation in FY '24, albeit at lower levels than what we saw in FY '23.

And CPI is running ahead of indexation, then I take it.

Yes. I would say that is true. But with the Medicare indexation, I think it's probably important to think if we look at the different drivers of the revenue line and we're talking obviously only Australia here. If you think about it, we've got better Medicare indexation of 3.6%. We're expecting another 0.5% effect from 1 November. That's yet to be legislated by the government, but we've been told that by the Department of Health. So, that's one component. Obviously, outside of Medicare, we have some annualization of price increases that we took in January 2023, particularly the ultrasound price increase we took in Queensland as I mentioned before. We would expect that the favorable mix impact as patient volumes move to the higher tech modalities of CT, MRI, PET would continue to drive revenue and obviously, just underlying patient volume growth. And all those things put together, we would certainly see revenue growth more strongly than costs in FY '24.

I think that answers my question. I mean, so you're expecting margin expansion in '24?

Correct.

Correct. Your next question comes from Steve Wheen with Jarden.

Typically, these results give some indication how you're trading in the current year. So just wondering July and perhaps even August might be looking relative to perhaps the most recent Medicare data?

Steve, we have not called out July and August of this year. We didn't see a need to. We called out -- in our half year, we called out how January and February were trading really because that was very different to what we had seen in the first 6 months of the year. But generally, we don't call out for the following year -- for the year that we're in, if we don't see any major differences. In the past, the Medicare numbers have been a good proxy for our results as well, which tend to trend in a similar direction, even though we do generally outperform Medicare as we did last year.

Yes. So again, essentially, you're saying because you're not seeing any major differences, you're continuing to outstrip the Medicare growth for the states that you're in? Is that a correct assumption?

That would be -- yes, the trend would be correct.

Yes. Okay. And then secondly, just back on the labor costs. Just wondering what sort of level of vacancies you continue to have and whether or not we're going to see labor cost as a percentage of revenue continued to decline like it did second half versus first half? Mainly, is there anything in the labor cost line that will assist that? Or is it largely just your revenues going to continue to go higher from here?

I think, Steve, I might just comment and Ian might want to comment further. But generally, to the previous point, I think we're expecting that EBITDA margin will expand in FY '24 as the business continues to sort of recover back to where it used to trade pre-COVID. So, I think revenue will clearly be one driver. But on labor side, we've seen hopefully moderating inflation in wages, as I mentioned before, easing on the suppliers as the borders reopened and able to get some of the international medical graduates into place and so on. So, I do think that, that labor cost inflation should moderate. I think it would be a combination of both revenue and labor that drives that margin expansion. And as you know, that's our major cost really that determines where our margin sits.

The operating leverage in our business is strong, and that's very well demonstrated by the first half versus second half result. As the patient volumes came back in the second half, we saw the margin improve. So, we really do better on the operating leverage.

Yes. So, I guess where I wanted to go with this is from an OpEx perspective, you've got the 3 major lines that seem to be improving as a percentage of revenue is labor, consumables and other. Are they all going to -- is it all of those that are contributing to that margin expansion going forward? Or is there anything that you could call out that we should focus on?

The only comment I'd probably make is just in regards to other expenses. I called out that we saw higher insurance costs in FY '23. Now, I think the cyber costs certainly don't go down. But I think the major driver, Steve, really is going to be labor. I think that operating leverage that Ian talked about, that's led to the 1.7% improvement in our margin in the second half is probably the major driver.

Yes. Understood. Last one for me. Your sort of made the point when talking about the -- your MRI funding and the 95% reduction in -- well, the 95% -- the shift down to 95% of the bulk bill rate. Obviously, only applied to bulk billed. I wonder what proportion of your MRIs are pure bulk billing versus co-pays?

We don't have an actual percentage for you, Steve, but it would be very low and it would be lower than where it was last year this time. If you look at our Queensland business, as an example, on the Gold Coast, you'd be very hard-pressed to find a bulk billed MRI either within our group or other groups on the Gulf Coast. And similarly, on the Sunshine Coast, we see very few bulk billed services -- MRI services being offered. So while I can't give you a percentage, I can definitely say, it would be a lot lower than it was last year this time. [ So ] there were bulk billed MRI services on offer in the -- on the Gold Coast and the Sunshine Coast.

Your next question comes from Craig Wong-Pan with Royal Bank of Canada.

My question just on New Zealand. We saw the growth rates -- the revenue growth rates improved in the second half. I was wondering if there was much benefit from expanding into the GP market? Or is that increased referrer base going to flow through in future periods?

It will continue to flow through in future periods. The benefit of moving to the GP market is a, the GP market is not yet impacted by non-arm's length referral, [ let's say ] the orthopedic market, for instance. It also gives us a more balanced offering [ industry ] than similar to our offering in Australia. And -- in terms of the scope of services being offered, it's always useful to have that GP entry point into the system because that generates a lot more of the high acuity studies down the line. In other words, patients referred by GP for an x-ray or an ultrasound, invariably, if you do find something, they would need to come back for a CT or an MR. And that's why it makes sense to -- for us to broad and diversify our market in New Zealand to GPs as well. So our referrers in New Zealand look a lot more similar to our referrers in Australia now. We're still more oriented towards the specialist market, but we have more GPs in New Zealand than what we had a year ago and certainly a lot more than we had 2 years ago.

I'd just probably call out as well. I think what we saw in the first half is that a real impact of some of these radiologists opening their own -- sorry, specialist opening their own radiology clinics, we saw more of that impact in the first half. They shift away from some of that higher-margin [ plus with less ] legal work, but that sort of normalized by the end of the first half, when we started to see some improvement in average revenue per exam in New Zealand in the second half. I think it feels like the market sort of stabilized in the new normal.

Could you quantify how much benefit you had from expanding your GP referrer base?

No, we're not and -- yes, we would not call that out in any of them. We do know, based on the numbers we see in the second half versus the first half, that our average fee improved nicely because of the broad and diversified referrer base we have, and we expect that to continue to improve, as we pick up on the patients that the GPs refer to, to specialists. That's -- yes, we don't call out the margin -- the percentage margin improvement. New Zealand margins are still lot higher than the margins in Australia.

Okay. I was more just referring to just like the kind of revenue growth impact that you had from the GP referrer base increasing, but I can leave that there. The next question just on -- around CapEx. The significant level of replacement CapEx that you had in FY '23. Has that backlog now been worked through? Or can we expect that to remain fairly high going forward?

Craig, I think it has cleared. As I've mentioned earlier, replacement CapEx was higher in FY '23, reflecting sort of a catch-up that didn't happen in FY '22, but we certainly expect to see a lower level of replacement CapEx in FY '24.

There were some concessions provided by -- by Medicare during COVID that allowed us to use our equipment for longer and still retain a full Medicare rebate. [ They were ] COVID concessions, they were removed after COVID. And therefore, we needed to replace more equipment after COVID than we had to replace before.

Your next question comes from Saul Hadassin with Barrenjoey.

Craig, maybe one for you. Just obviously, reading about the implications of payroll tax in Queensland for some medical practices. Can you just talk to the -- your contractor radiologists and whether that's going to be an issue for you guys at some stage?

Yes. Thanks. Saul, yes, good to see that. I think is a business I believe we've taken an appropriate and conservative approach to this issue of employees versus contractors. That's certainly one that the company has been [ live to ] for a long time. I think the debate for those on the call, who may not be aware of all the detail around the question is that good contractors we classified as employees. And I think we go through all of our arrangements with doctors. And at the end of the day, where a doctor is effectively substantially working for IDX, and they are employed, and we will classify them as such, they will pay payroll tax, pay the superannuation contribution. And where we do have contractors then they would typically be working for us part time, might be working for other providers, and we would expect to classify them appropriately as contractor. So I don't believe we have any material risk in that regard.

Right. And Ian, just to clarify on the MRI licensing and the deregulation in regional areas. Overall, do you -- will you -- was IDX a net beneficiary of that? Or are you finding you're having to compete, where you had licensed machines you're now facing some competitors that similarly now have machines that are fully licensed?

Clearly, we gained 3 new MRI licenses, 2 that were not previously licensed and one upgrade from partial to full. But also, in some of the areas, where we operate, there were competitors, who similarly gained. So we have additional competition, but we also have additional MRIs that are able to bill Medicare. I think net-net, there was probably no -- well, certainly no material change to our overall MRI revenues because of it. But in some markets, the additional competition may have taken some of the business away, and in other markets, we've definitely gained. To-date, we've probably gained a little more than -- than what we last started the process, and I don't expect that to change.

Your next question comes from Andrew Paine with CLSA.

Just wanted to look at or get a bit of insight into the out-of-pocket contribution to growth in -- through FY '23. You've obviously given a fee per exam, but wondering, if you can split that out between mix, indexation and out-of-pocket?

Andrew, it's not a number that I can provide it. I mean, I'll provide some comments just to put it into context. I think -- the -- in FY '23, the price increases we took were called selective. So we look across all of our businesses in these states at the competitive market conditions in each of those markets and take price increases, where appropriate to try and obviously recover some of these inflationary pressures that we felt. The -- probably the price increase that would have contributed most would have been the one I called out earlier, which was the price increase we took on ultrasound on both the Gold Coast and Sunshine Coast, from January, this calendar year '23. So we'll see a full benefit from that in FY '24. We did take some out-of-pocket increase on MRI on the Gold Coast around July 2022, that they would have a pretty modest impact. So if you look at Australia, overall, where we delivered the 5.7% increase and the splits first half, second half that I mentioned, so 5.2% in the first half; 6.1% in the second half. That difference between the 6.1% and 5.7% is essentially mostly going to be the impact of those out-of-pocket increases. So that's probably as much as I can provide to you to give you a sense of the impact of them.

And just thinking, how do you see out-of-pocket is developing across the industry. Just kind of thinking that with bulk billing rates coming down and also the potential for legislation that patients will only have to pay the gap fee, if charged. I think that have been held up recently, but how do you think that will help drive those trends in the future?

Well, when they say [ deflation ] passes, and we expect that it will at some point because it is a good concession for patients to be able to pay the gap. And we think that there's good support for it. And when that happens, that will support our ability to charge gaps without having as much an impact on patients. It has been important to charge gaps in the past year because of the different -- the large differential between the [ day care ] 1.6% and the inflation rate. This year, the differential is not as great. So I don't expect there to be as many new gap payments levied across the industry. But for businesses that have started paying gaps, and they put it in the infrastructure to be able to do that, I would think that the gap payments are likely to continue, given the fact that even the 3.6%, plus additional 0.5% that we received in November is still likely to be behind the annual CPI rate or not by nearly as much.

Okay. Great. And just one last one, if you don't mind. Just circling back to the MRI bulk billing rebate, it sounds like that hasn't had that big an impact if those changes over the past 12 months, and then you're getting indexation for MRI. So it sounds like it will be a net win for you in terms of funding for MRI?

I think that, that's right. I don't expect that had much -- much of an impact across others in the industry either just because as I said earlier, there are fewer and fewer MRIs that are being bulk billed today. So if you're not going to be bulk billing, then you're not impacted by that 5% reduction in the bulk bill -- in the bulk billed rate.

Your next question comes from David Bailey with Macquarie Bank.

Just coming back to some of the earlier questions around thinking about '24, we're looking at indexation of [ 3.5% ], maybe volume of a bit above mid-single digits. I'm just interested to understand the mix of fixed and variable costs within the OpEx lines. And then maybe just a broad rough estimate of what the inflationary number might be on those operating costs. You can do that, we can sort of back out better -- what's the leverage might look like for you guys?

Yes. So I think first, to your question around sort of fixed versus variable. I mean, we are generally a high fixed cost business, and obviously, in a scenario, where patient volumes are growing. Again, we're seeing some positive operating leverage, particularly in the second half just gone. So we'd expect that to continue. But it's very difficult to put an absolute number on fixed versus variable. But I'd say it's around 75% fixed, 25% variable directionally. In terms of inflation, you really just need to -- if we look at the sort of the external guidance on inflation rates for both Australia and New Zealand, New Zealand obviously running a little higher, we wouldn't expect cost growth to exceed that inflation rate. Bear in mind that, that inflation is also coming down over time rather than going up.

Yes. Understood. That's down sort of thinking about it as well. Maybe just in terms of your exposures -- having regional exposure, just your observations in terms of recoveries or growth rates in the more regional areas versus metropolitan and also doctor availability in those regions versus what you might be seeing elsewhere?

Thanks, David. It's improved a lot in regional areas during this calendar year when the borders were opened up to international medical graduates. We were really hurt in the regional areas during the COVID years, and since the border is closed, now international medical graduates coming into the country because the international graduates are required to work in regional areas for up to 10 years and most of them for 10 years in those regional areas. And what happened during COVID is that doctors, international graduates, who are reaching their 10-year moratorium, they are moving into the cities, and there was no pipeline of new doctors coming back into the regional areas. Now that, that pipeline has opened again, we've got new doctors coming to the regional areas and refer to our clinics in the regional areas because we do have a weighting towards more of the regional areas than I suppose, than the urban or metropolitan areas because we tend to select those areas that are high growth areas for the -- [ that's what our ] target population patients at -- [ above the age ] of 65 in areas like, the Sunshine Coast and the Gulf Coast and the Western areas of Victoria and Southwest WA are areas that to attract growing retirement populations, and we do need doctors to service those populations and depend a lot on the international medical graduates, they have to work in the regional areas before they're able to work in the cities. So I think for those reasons, we should see the regional areas catching up nicely, as the international graduates begin to make a real difference.

Your next question comes from Daniel Downes with Goldman Sachs.

Ian and Craig, just a quick one on the market for acquisitions in the current environment. Have you seen any shift in the sources of capital that you're competing in? What do the opportunities look like? And has pricing changed at all over the last 6 months?

We were not active in the market, although, we were still recipients of some vendors that came to us to seek interest. We became more involved in the market again and started looking again towards the end of the financial year. And we will continue to be evaluating opportunities, as we go into financial year '24. Historically, we've been very disciplined around the multiples that we would pay for acquisitions, and we would continue to be as disciplined. We've not seen the kind of multiple that was paid in November of last year, one of the Sydney-based businesses that received a very strong multiple from private equity. It was the [ last ] sort of big transaction we've seen in the industry, and we've not come across even on the smaller radiology clinic side, we've not come across those kind of multiples again, and I don't expect we would. I think that, that was probably about where the market was at that point. But when we look going forward, we'll be looking at the markets that are of interest to us, high growth markets and markets, where if we do make acquisitions, they'd be made at a sensible kind of multiple.

Okay. That's helpful. And then just finally, your thoughts about the impact of AI into FY '24 and maybe going forward? Are there any scenarios, where there could be potential revenue benefits going forward? Or is it more centered around improving efficiency of radiologists and the patient outcomes?

Thanks for the question. AI for us is exciting on both of those fronts. With regard to efficiency, there is no doubt, and even based on our own time and motion studies that we've done around the algorithms we have, we see efficiencies in terms of radiologists spending less time looking at scans, where there is an AI algorithm or another set of eyes, if you will, that has looked at the scan beforehand. But also, in terms of being able to drive business, what the AI algorithms do is they pick up incidental findings more often than what radiologists doing, and lot of those incidental findings do require additional workup. So we see, which is positive for the patient. I mean, it picks up things that we would not ordinarily be looking for, but still need to be worked out and followed up for the benefit of the patient. So we do see AI making more and more of a difference in our industry over time. We've been steadily -- slowly, but steadily increasing the number of algorithms and increasing the number of practices that we offer these algorithms do, and we'll continue to see these kind of -- this kind of growth in AI. Radiology lends itself very well to artificial intelligence because we're all digitized already. So the AI algorithms really work with a digitized data set, which is very conducive to making good solid differences in diagnosis and the kind of follow-up care that we can deliver. So I guess, the short answer to your question is, yes, AI will help in terms of efficiency. We've seen some of that. It's not been nearly material to-date, but it will be material going forward over the next few years. And we will also see AI pick up work, where the patients will be diagnosed earlier because the AI algorithms will be picking up things that would not otherwise have been seen.

Your next question comes from Lyanne Harrison with Bank of America.

I'm just going to follow on from Daniel's question on your AI investment. What sort of cost should we be thinking about in terms of '24? Or are you largely using or licensing third-party algorithms for that?

Thanks, Lyanne. We do use third-party algorithms. We don't develop our own AI software. But importantly, we integrate the software from these third-party providers into our systems, and that's where the real benefit to-date has come from. So for instance, we have algorithms that detect cervical spine fractures or pulmonary emboli or brain hemorrhages. And if the software sees any abnormality that suggests any of these prognosis, what it does is it takes that case and it puts it right at the top. It moves it to the top of the radiologist worklist. It becomes the very next case that the radiologist looks at. Now that's in place now for a few years, for a couple of years in some of our practices and the system have saved lives because it's identified abnormalities that then are picked up a lot faster, and it has detected things that may have been missed, and we not had another set of eyes, the algorithm being better than eyes looking and creating scans beforehand. So we're very excited about the potential for AI making a tremendous difference to our industry, to patient health and well-being and to the ability to diagnose early over the next few years. These kind of changes usually take a little longer than expected. The kind of output you get from them are far greater than expected and I think that, that is going to be true in terms of AI using radiology.

We're looking forward to seeing more what happens. But if I could move on to, I guess, costs and margin pressures. You mentioned that IDX was obviously focusing on reducing costs in '24. Can you comment on what initiatives IDX is implementing? Is there any that might have a more material impact than others that you can provide some color on?

Yes.

What we do is we ensure that everyone is productively engaged every day. So we have systems in place, where we track the revenue at each clinic each day, and we also look at what kind of cost base we have in that clinic and look at tailoring the demand at that clinic according to the -- or tailoring the supply of clinicians, radiologists and other clinicians according to how busy the clinic is or is expected to be. I think that's the staffing a lot more closely to demand makes a good positive difference to us. We also implemented systems, IT systems in recent years that are more -- in the most recent year or 2 that have improved our ability to service patients more efficiently at lower cost than in the past. So systems like a third-party system [ or a ] middleware system that we've implemented on top of the radiology information systems we have in several of our businesses, we're now able to read scans from different businesses without having to purchase the technology needs business to read the scan because we have this middleware system in place that we're systematically rolling out across the rest of our company as well.

Okay. And just one last...

I probably -- yes. And if I could just maybe add to Ian's comments, whether [ it's 3 and 4 ]. So obviously, I'll just call it labor productivity, whether it's clinical or corporate, talk about doctor productivity, but it's just productivity across the Group, the way of driving sort of efficiencies and being thoughtful about where we're adding headcount. The other one is, I mean, just to call out, we've mentioned in the presentation that in the second half, we reduced our operating expenses, excluding labor by $1.4 million. So we've had a really significant focus on everything from travel costs, they're closely monitored and approved would lead us sort of doing our best to ensure that people are traveling appropriately, but that it's for the good purpose and the cost really needs to be incurred. So we are very focused on trying to contain cost, grow revenue and obviously expand our margin going forward, continue to expand margin going forward.

Okay. And just one last question around that margins as well. Obviously, a little bit weaker in '23 because some of those fixed rate contracts that you mentioned earlier. Can you comment on what the renewal date for those contracts are? And I guess, expectations for price increases if those renewal rates occur in financial '24?

Yes. The -- you're calling out the fixed rate contract specifically, and I mean, [ there's probably ] -- I'm not going to mention what it is. I think it's commercially sensitive, but we do have one contract. It's not so much around the renewal, that's more around just the way that the contract is structured. And effectively, if we achieve a certain metrics, then we get a price increase on that contract. And we've effectively achieved that in FY '23 that has a positive benefit in FY '24.

Your next question comes from Mathieu Chevrier with Citi.

My first one is just on EBITDA margins. Do you still expect that you could get back to the [ mid-20s ] over time?

No, I think, Mathieu, the -- nothing has really changed, I think, in terms of our view on that. I think we've previously talked about getting back to [ mid-20s ] EBITDA margin on a post AASB 16 basis by -- around FY '26. And I think the expectation is, we're going to work our way back there. We're just continuing to grow revenue, controlling costs in a hopefully slowing inflation environment and seeing that operating leverage flow through to restore the margin.

Yes. And then maybe just one on M&A, if I may. I see you had a reassessment of contingent consideration and that included -- I know most of it is for Imaging Queensland kind of done in the past, but you also had a bit for Horizon. I was just wondering how Peloton and Horizon are performing relative to your expectations?

Yes. I mean, I think we -- again, we've called out in some of the materials that both Peloton and Horizon when you look at how that performed relative to the regions they operate in, so Peloton Radiology in -- on Sunshine Coast and Horizon in Auckland, both acquisitions have actually outperformed those regions, but they're probably a little bit behind their original business cases, and that's really got nothing to do with, I think, how we're thinking about the acquisitions. We're happy with the acquisitions. It really is just a function of this slower recovery coming out of COVID and the higher inflation environment. And I think it's fair to say that both Peloton and Horizon, as we start FY '24 are performing nicely. So we're looking for that obviously to continue.

And maybe just one final one again for you, Craig, on CapEx. How should we think about CapEx from F '25 onwards?

For F 25, well, look, we've provided guidance for FY '24 of $35 million to [ $45 million ]. We haven't provided guidance beyond that. But I think -- so look, I can't -- Mathieu, I just can't give you a number. But directionally, I think you should be thinking similar numbers to FY '24. So probably -- and I'd also encourage you to probably think about that sort of number over time, so rather than thinking about it in terms of each financial year, just thinking about it as a sort of a directional average per annum. Hope you that -- that helps. But obviously, if the business grows over time, you'd expect that number to grow too.

Your next question comes from Dan Hurren with MST Marquee.

I was wanting to ask about public hospital work, if there are any opportunities there with some pretty high-profile backlogs, as the system comes away from COVID?

Yes. I think that there are opportunities there. We really do -- do a fair amount of public hospital work in Western Australia, in Victoria and in Queensland. And we're doing more public hospital work in New Zealand than we did in the past. So we're growing our offering in the public hospital space. I think there are opportunities for us, too, in terms of teleradiology assistance to the public hospitals, and we're seeing more interest around public hospitals looking for any radiology support to support the radiologists that they do have on site, and the IDXt business benefits nicely from that.

And apologies if I missed this, but could I ask you about the evolution of the modality mix across FY '23? How it changed? And perhaps could you compare that to pre-COVID levels?

So we continue to move towards the higher, more valuable modalities. PET, CTs, our most expensive modality [ on offer ] and the most valuable in terms of the information they can provide to the patient diagnostically and prognostically has grown nicely over the course of last year. In fact, it's been a real needle mover for us and for the industry since Medicare introduced prostate PSMA on the 1st of July last year in '22. MRIs also continue to grow similar to trends that we see across the world. And similarly, with high-speed CT for cardiac work, particularly. So we see that trend to continue. IDX has positioned itself nicely at the high acuity end of the scale, doing proportionately more PET MRIs and high-speed CTs than the industry does. [ So ] we think that, that positions us well going forward, as we see the trends towards these high acuity procedures continue.

Dan, I might just comment from a numbers' perspective. We've called out that we saw average fees per exam in Australia go up 5.7%, right? So that normalizes out the volume piece. That 5.7% has been a function of both price and mix. We know that prices for Medicare indexation was 1.6%. There are a few selective out-of-pocket price increases, particularly those ultrasound ones I called out earlier in the second half. So you can see that out of that 5.7%. 2%, 2.5% is price, which is Medicare plus selective price increases; the balance is the favorable mix impact to the modality. So that's in the order of around 3%.

Thank you. There are no further questions at this time. I'll hand back to Mr. Kadish for closing remarks.

Thank you very much. We appreciate the interest that's been shown on the call and the questions that everyone has asked. Over the course of the next few weeks, Craig and I will be meeting with many of you and with investors in Australia and New Zealand, and we look forward to engaging with you and continuing the dialogue. Thank you very much for calling in.